When an Overdrawn Director’s Loan Account has been written off pre insolvent liquidation…

October 2, 2014 0

An accountant came to us with this problem…

The Background

The Accountant had a client who was going through a liquidation process (not with us). The last company accounts to 31 December 2012 showed an Overdrawn Director’s Loan Account of £140,000. (The Accountant had been appointed after the accounts were filed in September 2013.)

In March 2013 the company had passed a special resolution to write off the full balance of the loan as at that date – which was £100,000. The write off was included on the director’s personal tax return for 2013/14 and income tax was paid as due on 31 January 2014.

Following the Accountant’s appointment, it was clear the company could not continue trading as losses were being incurred and taxes due to HMRC (VAT, PAYE and CIS) were not being paid. At this point a liquidator (not us) was appointed.

The Director’s Loan Account at liquidation was £40,000 in credit, after taking into account the write off.

The liquidator (not us) is seeking repayment of the amount written off, even though the loan account is now in credit.

The Accountant’s questions to us

Is the liquidator acting properly?

Has the client any defence?

The two sides of the argument

The Liquidator

The liquidator could pursue the director for misfeasance for having written off the Directors’ Loan Account of £140,000. This is because, in this situation, the director and shareholder are the same person.

The reasoning being that the overdrawn loan account represented an asset of the company, being a debt due back to it. The director/shareholder has caused the company to write the debt off and has accordingly reduced an asset of £140,000 to £0.

The Director

There is a counter argument that the £140,000 was in fact income. The director did declare the income on their personal tax return and they did pay income tax in relation to that income. If they had a contract of employment/service agreement this would further help their side of the argument. It would also help if the necessary resolutions had been passed by the members allowing for the remuneration to be drawn. This should have been kept with the company’s books and records.

However, the Liquidator may well not accept the argument that this constituted remuneration given that it was never termed as such and, had it been remuneration, then National Insurance and Income Tax at the appropriate rate would have been paid. If the director separately drew a salary then this would not assist, as the Liquidator would argue why the different treatment of two elements of remuneration.

If push came to shove then the director should at least insist on offsetting the Income Tax element which they have paid, as they did not benefit from the whole of the £140,000.

The Advice

If the director is struggling and/or has an absence of assets readily available to make good the payment – i.e. there is an ‘inability to pay’ – then the best way forward would be for the director to try to do a commercial deal with the Liquidator.